Part 11 – last Article blog

11. Lender issues: Landlords will frequently reject tenant’s suggested lease modifications because they would impair the “financeability” of the property, so the tenant must understand lender concerns. In general, the lender’s primary concern is the assurance of uninterrupted cash flow; anything that might jeopardize cash flow will be carefully scrutinized. Sensitive lease provisions generally include tenant remedies such as rent abatement, offset rights (deducting damages against rent) and lease termination rights.

 Successful negotiation means more than just the rent  As noted above, each step of the commercial lease process and each provision of the lease agreement provides ample opportunity to improve the deal, and conversely, expose the landlord or tenant to costly and unnecessary expense. The successful negotiation will focus on more than just rent. By reducing risks and avoiding surprises, the frantic calls for help may be a thing of the past.

Article blog – Part 10

7. Repair, maintenance and alterations: Every lease will address maintenance and repair of the leased premises and common areas, and should also address alterations to the premises. Typically, the tenant will maintain the premises (except the structure) and the landlord will maintain the structure, the remainder of the building (not occupied by a tenant) and any common areas. For alterations to the premises, the lease will allocate responsibility between the parties to provide appropriate controls over the types of acceptable changes. The tenant wants flexibility to accommodate its business, while the landlord wants control over any changes, especially involving the structure, exterior elements and building systems (such as HVAC, plumbing and electrical).

8. Compliance with laws: Compliance with applicable laws and ordinances is usually a boilerplate provision, but can be very costly if not properly negotiated. The lease should address who is responsible for making capital expenditures for structural alterations required by laws enacted during the term of the lease (e.g. installation of sprinkler systems or improvements providing access for the disabled). These matters can be substantial and, if they are required to be made by the tenant, may end up being of relatively little utility.

Compliance with laws relating to the specific business conducted from the premises should be the responsibility of the tenant, and should not be included in common area maintenance expenses. ADA improvements necessary within the interior of the premises resulting from tenant’s work should be the responsibility of the tenant. On the other hand, improvements to the common areas necessary for access by of disabled individuals should be the landlord’s responsibility.

Further, compliance with environmental laws is quite significant because of the extensive nature of improvements and attendant costs, which could include the potential for removal of asbestos or lead, responsibility for insuring compliance with environmental laws and indemnification for non-compliance. Leases typically include lengthy representations, warranties and covenants regarding tenant’s compliance with applicable environmental laws.  However,  the tenant should limit responsibility to noncompliance by the tenant, its agents, contractors and agents, as well as ask for the same limitations and rights as granted to landlord (landlord should be responsible for compliance unless caused by a tenant). The definition of “hazardous materials” should ensure that common business materials (e.g. copier toner, batteries, etc.) and normal cleaning supplies are excluded.

Article blog – Part 9

6. Assignment and subleasing: Landlords want to restrict tenant transfers to control the use of the property, to eliminate harmful competition between tenants (avoid disadvantageous mix and violation of exclusives), and to maintain the landlord’s right to negotiate the lease. The issue of “control” is usually the focal point on assignment and subleasing rights. This is particularly important to retail tenants, who need to assure compatibility with other tenants. The landlord may also argue that, in a project that is not fully occupied, a tenant remarketing its premises is a direct competitor.

The most common compromise is to prohibit the landlord from “unreasonably” withholding, delaying or conditioning its consent to a sublease or assignment. The law often implies a good faith standard, and provisions that purport to allow the landlord to withhold consent in its “sole, absolute, and unfettered discretion,” may be unenforceable. Tenants sometimes require the landlord to specify the reason for withholding approval and include corrective actions that can be taken to make the transfer acceptable. The landlord may be required to respond within a specified period of time following request for consent, with landlord’s failure to respond timely deemed to be consent. Another variation is to define all factors the landlord may consider to determine if it has acted reasonably.

Another landlord approach is to reserve a recapture right if consent is requested, which allows the landlord to exclude an unacceptable tenant, control competition with existing tenants and capture any upside in rents. The landlord may also recapture the upside potential by requiring that some or all of the “net profits” from the transfer to be paid to the landlord, and then the challenge is to define “net.” Typically, direct costs, such as brokerage commissions and tenant improvements, are recoverable, but sunken costs usually are not. A provision requiring the tenant to disgorge “all profits” may not be optimal, since the tenant would have no incentive to realize profits.

7. Repair, maintenance and alterations: Every lease will address maintenance and repair of the leased premises and common areas, and should also address alterations to the premises. Typically, the tenant will maintain the premises (except the structure) and the landlord will maintain the structure, the remainder of the building (not occupied by a tenant) and any common areas. For alterations to the premises, the lease will allocate responsibility between the parties to provide appropriate controls over the types of acceptable changes. The tenant wants flexibility to accommodate its business, while the landlord wants control over any changes, especially involving the structure, exterior elements and building systems (such as HVAC, plumbing and electrical).

 

Article blog – Part 8

3. Permitted uses and restrictions on use: The lease will describe what the tenant may do within the leased premises as a “Permitted Use.” Use restrictions will also be included to prevent  objectionable uses, incompatible uses and (particularly in a retail context) exclusive rights. A lease may require the tenant to use the premises only for one specified purpose or may provide for any lawful use. A tenant must analyze how such restrictions might affect its business, as well as its needs for flexibility to allow assignments and subleases, and a landlord desires to maintain a compatible tenant mix and general character of the project (prohibiting unwanted uses).

Lastly, the tenant must comply with use restrictions affecting the premises under recorded documents (for example, a Declaration of Covenants, Conditions and Restrictions recorded against the property), under applicable zoning ordinances, or even other leases. Tenant’s counsel should always ask the landlord to provide all use restrictions applicable to the premises for review and approval during negotiations.

4. Exclusive uses: Exclusive use rights arise primarily in the retail context, which prevent others from selling competing products or services. The trend today is for retailers, particularly large national chains, to demand broad exclusive rights. The landlord tries to negotiate the narrowest rights possible to maintain its ability to lease to a wide variety of tenants. To guard against overly broad restrictions, it is advisable to limit exclusive rights to the single “primary business” of each tenant and to carve out exceptions for “incidental uses,” which may be left undefined or defined by percentage of sales or maximum floor areas. Another safeguard is to require exclusive rights to lapse if not actively used. The negotiations will focus on what constitutes a default by the landlord and subsequent remedies available to the tenant, as tenants want to assure the landlord will honor these rights, and the landlord does not want to be responsible for a “rogue tenant” who violates the terms of its lease.

Blog Series – Successful Lease Negotiations, part 2

Types of leases Leasing is a complex subject because there are so many different kinds of leases, and it is a field of law, which can change rapidly as market and general economic conditions require new approaches to addressing the parties’ rights and obligations in the transaction.

Most commercial leases are categorized according to whether the use is office, retail or industrial in character. Each lease category tends to have more of a focus on one area or another. For example, office leases typically include services provided by the landlord, including janitorial services, maintenance, repair and operation of building systems, elevators, utilities, air conditioning and security. Industrial leases usually involve few services, except maintenance and repair of any shared parking or landscaping for a multi-tenant project. Retail leases are generally similar to industrial leases, but they include operational concerns particular to the retail context, including use restrictions, signage and site plan issues. There are also considerable differences between multi-tenant and single tenant projects, and the structure of any lease will be highly influenced by whether the property involved is leased to a single tenant or is part of a larger project.

A “gross lease” is one that involves payment of a fixed rental amount without any additional charges for taxes, insurance, utilities, or other charges. True gross leases are typically used only for short-term tenancies of relatively small lease areas. A “modified gross lease” is one in which some, but not all, operating costs of the property may be passed through to the tenant, in addition to base rent. In some forms of modified gross leases, the charges that may be passed through are taxes or other expenses of the property only to the extent that they exceed an “expense stop” or “base year amount.” Modified gross leases often are also “full service leases,” because the landlord directly provides all janitorial and utility services to the leased space. Further, a “net lease” (also called “triple net”) requires the tenant to pay, in addition to base rent, the tenant’s proportionate share of all utilities, insurance premiums, real property taxes, and maintenance and repair expenses for the property.

Further, specialized leases have evolved to serve financing functions, including ground leases (separate ownership of land from building), sale/leaseback transactions (shifting risks and benefits of ownership to a third party), build-to-suit leases (capital for building construction designed by tenant supplied by landlord), synthetic leases (operating lease for financial accounting reporting purposes and a secured loan for all other) and securitized leases (structured and packaged so income stream can be sold to third party investors through the securities market, often as a pool of leases).

It is important to fully understand the type of lease transaction being negotiated, regardless of what it’s called, in order to effectively negotiate the deal.